State basks in cheap loans after interest rates law

 

Investors have jumped on an opportunity to lend to the Government to help it finance water, roads and energy projects.

It is the first time the State has issued a 15-year infrastructure bond, which is targeted at funding specific development projects. Before this, the Treasury issued 12-year debt.

This latest issue, whose yield is tax free, was oversubscribed. Central Bank of Kenya (CBK) Thursday reported it received offers 13 per cent above the Sh30 billion it projected to borrow on behalf of the State.

Bids worth Sh4.5 billion were rejected, highlighting the cherry-picking from the CBK, considering that it could absorb up to Sh40 billion.

Capital gains

Oversubscription to such long-term debt instruments is an indication of investors’ sentiment that interest rates are not likely to rise dramatically in the near future.

“Investors expect that yields will drop in the future, and this would result in significant capital gains,” Vimal Parmar, a Nairobi-based research analyst said.

By investing in long-term instruments, investors are able to lock in the higher returns paid in semi-annual interest income, in addition to the prospect of capital gains. When yields decline, the value of bonds rises, resulting in the gains.

Credit for the State has become increasingly available and at a cheaper price since the recent amendments to the Banking Act, which capped lending rates at 4 per cent above the Central Bank Rate (CBR).

Currently, irrespective of a borrower’s risk profile, all bank loans are priced at a maximum of 14 per cent because the CBR is pegged at 10 per cent. Riskier borrowers would in the absence of rate caps have had their loans priced at a higher premium, informing the deliberate shift to investing in Government securities, which carry a zero risk of default.

Commercial banks are collectively the largest lenders to the Government, and have since the enactment of the new laws increased their allocations to buy public debt.

Mr Parmar said the short-term securities, or Treasury bills, are less attractive now because their returns are inferior.

In the last borrowing, yields on 91-day bills fell below 7.7 per cent from 22 per cent last year.

The spike in the T-bill rate was a major concern for the State’s borrowing scheme, and an even bigger problem for the private sector, with interest rates on loans surging to above 25 per cent.

Borrowers are now cushioned from the ravages of the volatility in the T-bill rates, with the cost of loans heavily reliant on the sentiments of the Monetary Policy Committee of the CBK.

Cheaper credit for the Government is expected to ease pressure on domestic debt, currently at about Sh1.8 trillion – almost equal to the Budget and a quarter of the country’s gross domestic product.